How to Use MACD Effectively

When it comes to pattern recognition on a chart, we could spend hours looking at daily, weekly, monthly, one-year and five-year chart. 

We can examine every wiggle, every bounce, and every dip for hours. 

In fact, look at the U.S. dollar. 

How many technical markers do you see at first glance?  Without much effort, I see five.  First, in May 2017, we can clearly see that the USD is still within its downward sloping wedge pattern.  In fact, it’s at the bottom of the wedge as of the start of May.  Should it hold that, the dollar – as we’ve seen in February and March 2017 – could bounce and move higher.  Or, it can fail, break down and create a new trend. 

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Historical pattern recognition will tell you to look for repetition.

Second, I can see that in May 2017, the dollar caught its 200-day moving average.  If that line of support holds, an argument could be made for potential further upside.  Third, relative strength (RSI) and Williams’ %R (W%R) were deep in oversold territory just as they were with the last two bounces in the currency.

Repeating patterns can help us predict what could happen next.

Moving average convergence divergence (MACD) also tells us its oversold, too.  In fact, in the case of the dollar, each time MACD tests -0.425, we see a bounce dating back to February 2017 so far.  This was an extreme move to that level. 

Typically, as you can see in the chart, MACD stays relative flat at the zero line.

With currencies, one of the best ways to turn a profit is by identifying when and where prices are rising or falling too quickly.  It’s why we turn to MACD, which can help us define such extreme conditions.

That’s because -- in many cases --big shifts away from the zero line on MACD can tell us the dollar has strayed too far from (or diverging) from historical averages.

Look at what happens after MACD falls too much, or moves too high on the Dow Jones Industrials.  Look at what happens shortly after those extremes.  The index reverses.

Pull up any of your favorite charts and look at what happens with MACD spikes or dives, confirmed with other indicators.  About 80% of the time, it’ll pivot.

And if you’re new to MACD, it's simply a momentum and trending indicator based on what’s happening with moving averages.  In the case of the USD, we’re using the 12-, 26- and 9-day averages.  It’s just another great indicator to be well aware of as you trade. 

To succeed often, look for an instance of extreme moves in MACD momentum. And whatever you do, never use it as a standalone indicator.  Always confirm with other information prior to trading currencies, stocks, or even indices.

Trade smart.  Trade safe.  And be fully aware of all setups before a trade.

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